Mexico

Mexico has emerged as an emerging markets darling, with some editorials praising it as the “New China”. Is this a fair assessment? While it is true that Mexico’s wage cost competitiveness has improved relative to China, its broader productivity record has been very weak in recent years. Slow productivity growth has been limited by a lack of full implementation of earlier reforms, and difficulty in passing reforms in key remaining areas. The reform record of the past several months is encouraging — even astonishing — in its scope. Major reforms have been made to boost competition in telecoms, strengthen the education system, improve labor market flexibility and make local governments more accountable. Moreover, these reforms are not just incremental reforms: even “painful” and substantial constitutional changes are being passed, such as the telecommunications reform that was approved by state legislatures a few weeks ago. Many of these reforms the OECD has long advocated in its policy advice, notably in its Economic Surveys.

The gamut of reforms that have been passed makes one wonder what is the secret to all of this reform? A key part of the answer is its “Pacto por Mexico”, a consensus-based commitment to pass a package of reforms. This political vehicle has reduced the political opportunity cost of passing difficult reforms, by ensuring that all major parties take responsibility for their passage. The politically savvy technocrats who designed the Pacto include a number of former legislators, and their experience has helped immensely.

Economic growth has been too slow in recent decades to narrow the gap with the rest of the OECD, and it has been insufficiently inclusive to durably reduce poverty. This is mostly because the all-essential “multifactor” productivity has been a negative contributor to growth, after accounting for demographics and capital accumulation. In the long run, productivity should be the primary source of growth. Reversing the stagnation in the income gap with the rest of the OECD, and reducing income inequality will require “deep” structural reforms to address widespread informal employment and weaknesses in legal institutions, which diminish the effectiveness of many policies. These weaknesses particularly hold back gains in productivity, in part by limiting the scale of production and also by imposing barriers to reallocation.

While there is no silver bullet to eliminate informality, new OECD evidence presented in the latest Survey suggests that a broad package of reforms can help immensely: strengthening educational outcomes, improving the regulatory environment and reducing corruption are all essential intermediate steps to do so. New legislation and regulatory reform are needed to remove remaining barriers to market entry – especially at the sub-national levels – as well as reduce corruption and make the justice system more effective. While these goals are partly addressed in the Pacto’s commitments, policymakers must not be complacent, nor stop when the “going gets tough”. Ongoing reforms and follow-through are essential.

The OECD’s Survey recommends the creation of an ongoing high-level inter-agency body focused on productivity that can study and help to promote structural reform.

Boosting productivity and achieving the range of competition reforms envisioned by the administration will require stronger judicial institutions to enforce laws and adjudicate disputes. Judicial effectiveness relies not only on legal origin, but also on the efficiency of the court system, the quality of administration, the nature of legal codes and the soundness of procedures. Analysis carried out in the context of this Economic Survey suggests that a low-quality judiciary makes contract enforcement problematic, reducing the size of firms and capital intensity, thus limiting overall productivity through diminished economies of scale. Major reforms to the civil and criminal judicial systems are underway, yet faster progress needs to be strived for.

Those reforms that have been carried out in recent years have already improved Mexico’s macroeconomic performance, helping to support the economy’s solid recent growth record – which we believe will continue at a pace of about 3½ percent – and increased its resilience to repeated international shocks. However, it is critical that the reform efforts don’t slow down, and implementation is not forgotten. Mexico has no time to lose. In order to durably raise living standards and well-being for all Mexicans, many more reforms are still needed, and considerable follow-through or implementation of previous reforms is still required in most policy areas.

Competition between the two Latin American giants, Brazil and Mexico, has been fierce for many years. Joining the North American Free Trade Area (NAFTA) in 1994 gave Mexico a couple of very successful years. In 2000, expectations of more fundamental economic reforms were high when president Vincente Fox took over after 70 years of leadership by the Institutional Revolutionary Party (PRI). However, reform expectations were not met since Fox did not have a political majority in parliament – a situation which his successor Felipe Calderón from PRI is confronted with as well. Ironically, the new Mexican leaders now support the reforms that they critically rejected during the 12-year presidency of Fox.

Contrary to Mexico, Brazil entered the new century with a lot of doubts and question marks. In 2001, Brazil was hit by the Argentinian crisis. The South American free trade area Mercosur moved on very slowly. The business climate worsened further when the former leftist union leader Lula Da Silva won the presidential elections in 2002. But Lula changed style in time and went visibly for economic stability and reforms, well supported by parliament – contrary to Vincente Fox in Mexico. Lula was even re-elected in 2006.

Statistics give an obvious answer on the results of Mexican/Brazilian economic competition (GDP growth 2000-2009, average: Mexico 1.7 percent and Brazil 3.3 percent). Apart from domestic political conditions, one external factor contributed a lot to the different performance of Mexico and Brazil: the rapid rise of “manufacturing China” which very sharply turned out to be a main competitor to the “manufacturing Mexico”, particularly what concerns exports to the U.S. During only one decade, China more than doubled its exports to the U.S., much at the expense of Mexico. At the same time, Brazil was very much favored by China’s commodity import boom. Last year, China absorbed 17 percent of all Brazilian exports which means that China has advanced to number one of all Brazilian export markets.

During this ongoing decade, growth perspectives may again change pattern. Chinese total import growth may weaken somewhat on trend in the forthcoming years. Mexican competitiveness may be supported by the peso depreciation in the past years. So far, the GDP growth numbers of Mexico and Brazil are quite similar since 2010, around 4 per cent, with Mexico a little bit in the lead.

The relatively dampened or weak global growth outlook should lead to the conclusion that domestic demand in Mexico and Brazil may play a somewhat larger role for economic growth in the forthcoming years than in the past. In this context, Mexico may have a little better cards because of its substantially lower public debt in relation to GDP, slightly above one third compared to more visibly above 50 per cent in Brazil.